2 Factors that Argue for a March-April Rally

by Daniel Putnam | February 26, 2014 2:52 pm

The U.S. stock market has delivered outstanding gains in February, but the recent gains may be just the beginning. If stocks hold to two historical patterns, investors may still have an opportunity to generate additional returns before it’s time to “sell in May.”

The first is seasonality. Yardeni Research, in its Feb. 1 piece Stock Market Indicators: Historical Monthly & Annual Returns[1], reported that in the 86 years since 1928, the S&P 500 has averaged a gain of 0.6% in March and 1.3% in April. In both months, the index has risen on 53 occasions while falling on 33 – a hit rate of 62%.

Keep in mind, of course, that relying on seasonal trends can be a dangerous game given that headlines can crop up out of nowhere. Still, these numbers indicate that the early spring months have been a generally positive time for the markets through the years.

The second factor to consider is the CBOE Volatility Index, or VIX. In the past year, a move in the index below the 14 level has typically brought with it several weeks of positive performance for the market.

[2]

The chart above shows the periods in question, and the table depicts the return of the S&P 500 Index during those intervals. While not all moves below 14 have proven sustainable, the decline in the index to 13.67 at Tuesday’s close is nonetheless a positive sign for the markets. This helps show that while a low VIX is often thought of as a potential negative for stocks in that it signals a lack of healthy fear, it’s necessary to take a more nuanced look to see how the market is responding around certain levels.

Date Range

S&P 500 Return

3/5/13 – 4/12/13

+3.2%

5/2/13 – 5/24/13

+3.3%

7/11/13 – 8/14/13

+0.6%

10/16/13 – 11/29/13

+4.9%

12/17/13 – 1/23/14

+2.7%

Together, these two factors point to continued positive momentum for the market in March and April. This doesn’t necessarily signal that it’s time to run out and load up on call options, but it’s something for traders to keep in the backs of their minds.

It should also be noted that the most important factor in market performance — Fed policy — continues to support a favorable upside trend in the market. Whereas the presence of alternatives to stocks provided greater latitude for a correction in the past, the Fed’s low rate policy has contributed to a higher threshold at which investors consider a dip to be a buying opportunity.

With money market funds paying 0% and government bonds still under 3%, is it any wonder that the market is in the midst of one of its longest periods in history[3] without a 10% correction?

The Risks to This Story

The primary risk to the positive March — April story stems from economic growth. If the economy moves out of the not-too-hot / not-too-cold band it has been in for the past year, the potential for a correction increases. Should growth regain the track it was on in the fourth quarter — before the worst of the winter weather caused the economy to stall — renewed talk of Fed rate hikes in 2015 could lead to a rapid increase in investors’ risk appetites.

On the other side of the coin, continued slow growth would show that the fourth quarter rebound was just an illusion — not what investors need to see at a time of sluggish top-line revenue growth.

Still, barring one of these scenarios — or an unexpected headline — the combination of seasonality and a sub-14 VIX signals continued tailwinds for the stock market. Investors should be well-served buying any dips that occur in the next four to six weeks.

As of this writing, Daniel Putnam did not hold a position in any of the aforementioned securities.